Commodities often rear their head for investors at irregular times. Sometimes it’s on the back of events, but there are times when they arrive unexpectedly. So could the asset class be making a return?
Indeed, there is a call for investors to get into cocoa, coffee, corn, crude, cotton, copper and cattle – collectively known as the seven Cs.
A big advocate of the ‘seven Cs’ idea is Peter Borish, chief executive of Computer Trading Corporation, who has identified some trends within the asset class.
“The seven Cs are relatively consistent that inflation is going to be persistent for longer. You are starting to see some of the seasonal commodities potentially breakout,” Borish told Bloomberg’s Wall Street Week.
There can be no doubt that the numbers support this case. The value of cocoa is up 106.2% year-to-date while cotton has climbed 16.5%. Crude has gained 14.5%, cattle has risen 11.2% and copper has added 5.7%. Coffee is unchanged for the year, while at -10.2% only corn is down.
The Commodity Research Bureau index is up 7.9%. And three commodities: gold, silver and copper are all up around 15%, 20% and 30%, respectively.
Not to be left behind, in its latest report, the European Commission estimates that its sugar production will grow by 5% year-on-year for the 2024/25 season.
All, it could be said, are handy numbers.
Such important movements reveal some evident factors at play within the commodities market. Copper is a typical cyclical metal: when the economy is strong, demand for copper tends to be high, and vice versa.
Copper is also a key resource in the renewable transition, especially in electric car batteries where it is essential, so demand may also have a speculative component.
“Although global growth has not been exceptional this year, I believe the demand for copper stems from markets anticipating that growth will pick up towards the end of the year and early next,” says Paul Jackson, global head of asset allocation research at Invesco.
All that glitters
The rally in the price of gold, however, is another highlight. “Given the strength of the dollar and high bond yields, I would normally expect the price to be much lower,” Jackson says.
In its mid-year outlook, the World Gold Council (WGC) predicts that gold will remain range-bound over the second half of 2024. It expects falling interest rates in developed markets to continue supporting gold prices, as higher investment flows towards the asset as an inflation hedge.
Along with that, gold could also be used by the global investment community to hedge the ongoing geopolitical tensions.
However, the WGC warned of the possibility of a sizable drop in central bank demand or widespread profit-taking from Asian investors that could impact the overall performance of gold in the latter half of the year.
High levels of central bank purchases in response to conflict and geopolitical instability is a likely factor in gold’s rise to record highs. “At these levels, gold remains expensive, so I’m concerned it may not be able to continue at this pace.
Copper has more of a case for an enduring rise, due to its role in the net-zero transition,” Jackson adds. Central banks are playing their part in other ways.
“US Federal Reserve policy is gold’s main driver,” says Warren Patterson, head of commodities strategy at Ing. “There’s optimism it’ll soon cut rates, but it wants to see more evidence that inflation is a tamed beast. We are expecting interest rate cuts this year, but if it continues its cautious approach, gold prices risk pulling back.”
Gold does have many attributes for investors, but one stands out. “Gold offers protection against unpredictable and potentially significant events that can have a sudden and adverse impact on financial markets, economies or geopolitical stability,” says Ernst Knacke, head of research at Shard Capital.
“Given the arbitrary nature of the fair value of gold, we believe a technical approach is the most practical and useful valuation methodology to price gold,” he adds.
Specifically, Knacke employs a trend following strategy to determine exposure to the commodity based on the strength and significance of the underlying price signals. “The trend remains strong and I would suggest investors increase their [gold] exposure,” he adds.
The prospect of the Fed’s monetary easing has also benefited silver, which has surged along with gold, up 16% since January to its highest levels since 2021. Silver’s advance has come with an increase in exchange-traded fund (ETF) holdings.
That contrasts gold, which is yet to see a rebound in ETF demand. Investor holdings in gold and silver ETFs normally rise when prices gain, and vice versa.
There could therefore be plenty of room for investors to buy the gold market. But possibly, as noted, it could be a case of waiting for the Fed to start cutting rates before investors jump fully into the market.
“We expect gold prices to trade higher this year as safe-haven demand continues to be supportive amid geopolitical uncertainty with the ongoing wars and the upcoming US election,” Patterson says. He has therefore revised Ing’s 2024 gold forecast higher, and now expect prices to peak in the fourth quarter.
Copper craving
Copper is also trading at its highest since the middle of 2022, up 10% so far this year, fuelled by supply risks and improving demand prospects for metals used in the green energy transition.
The main catalyst for copper’s rally, analysts have suggested, is the unexpected tightening in the global mine supply, most notably First Quantum’s mine in Panama, which produces around 400,000 tonnes of the metal annually.
But there are, almost inevitably, other factors at work. “China’s property market has been a major headwind for copper demand, and a continued slowdown in the sector is the main downside risk,” Patterson says.
“In the short term, the upside to copper prices might be capped by macro drivers, including ongoing demand concerns in China and lingering uncertainty over US monetary policy,” Patterson says. “However, micro dynamics are starting to look more constructive for the metal amid a tightening supply outlook.”
Martin Frandsen, portfolio manager at Principal Asset Management, sees a particularly positive future for copper, as the commodity may face accelerating demand during the coming decade.
He then expands on the reasons for this. “Copper is a key component of electrical equipment and renewable energy production, which uses five times more copper versus traditional fossil fuel-based electricity production,” Frandsen says.
“As we anticipate an acceleration in demand for renewable energy, we expect this acceleration to flow through to increased copper demand as well,” he adds.
Rapid buildout
Frandsen’s positive view on renewable energy is due to several factors: continued high demand from the Inflation Reduction Act in the US, Europe’s desire to shift away from Russian gas, and emerging economies continued high level of investments into renewables, combined with an accelerating demand for powering the rapid buildout of data centres to facilitate the artificial intelligence (AI) revolution.
“The data centre buildout is particularly important for copper, as it increases the demand due to the electrical equipment in the data centres and indirectly because AI-enabled data centres require materially more electricity,” Frandsen says.
“Today, AI-enabled data centres can require as much electricity as 80,000 households, which becomes important as big technology companies largely have signed themselves up for net- zero commitments,” he adds.
This means that big technology companies have become some of the biggest financiers of renewable energy.
“This equation will be particularly potent over the coming years, where data centres new builds and the retrofitting of existing data centres to become AI-enabled may accelerate the demand for copper,” Frandsen says.
The big transition
Nitesh Shah, head of commodities and macro-economic research at Wisdom Tree, says his long-term outlook for commodities is also conditioned on an energy transition taking place: that is, the migration away from fossil fuels and greater reliance on renewables in an effort to reduce greenhouse gases.
“After strong momentum behind the energy transition in 2021 and 2022, investor interest began to fray in 2023,” he says. “2022 marked a high-water mark given the sheer scale of the US Inflation Reduction Act (IRA) that was signed into law – despite its name, the act was a piece of legislation designed to spur investment in green technology.”
There are now moves in Europe.
In 2023, the European Union adopted its Fit for 55 legislation, aimed to reduce greenhouse gas emissions by 55% by 2030 relative to 1990 levels.
It is also on the cusp of signing Critical Raw Materials Act into law, which is similar to the US’ IRA – providing tax credits to those on-shoring the supply chain of electric vehicles, wind turbines and other green goods, but, on a smaller scale.
And Cop28 in December concluded with a roadmap for “transitioning away from fossil fuels” – a first for a UN climate conference. Shah therefore argues that the energy transition will bring fundamental benefits to the commodities market.
“Our long-term outlook for commodities is conditioned on the energy transition and we believe that the potential for medium-long term supply deficits in metals will generate a commodity supercycle,” he says.
That offers a scenario where commodities go to another level. A supercycle has been much promised in recent years but failed to fully materialise.
There are other concerns though with the transition and commodities.
Emma Cox, global climate leader at PwC UK, warns: “Even if global carbon emissions rapidly decrease, climate disruption poses a serious and growing threat to the world’s ability to produce essential commodities – including food as well as materials that are themselves essential to the net-zero transition.”
This is a completely different level of threat.
Rate cut impact
The economic environment also plays into the case for commodities. “After a challenging 2023, commodities appear poised for a breakout as rate cuts come to the fore,” Shah says. “The late December 2023 rally provides a glimpse of what could happen when the cuts are delivered.”
With commodities there is also, predictably, the strong China factor. While the largest consumer of commodities – China – remains in a tough spot in terms of its economy, many recognise that its demand for commodities remains resilient as it modifies its business model.
“That may mean that some commodities will do better than others,” Shah says. “We believe China will continue to stimulate and its ability to do so may improve as other countries around the world loosen monetary policy, as the country is worried about currency depreciation.”
But there is another arguably more challenging scenario. Commodity markets may face some form of fragmentation and supply disruption if Donald Trump wins the US presidential election in November.
“A rise in global trade protectionism or a shift in the pathway of that trend is a global macro-economic risk we are watching out for,” says Paul Bloxham, chief economist at HSBC for global commodities, particularly concerning Australia and New Zealand. “This would increase the risk of greater fragmentation of commodity markets and create a supply disruption supporting commodity prices,” he says.
Then there is the wider geopolitical situation, which is never far behind in influencing the commodities market.
“A concern for the market is what happens to Russian pipeline flows to Europe via Ukraine,” Warren Patterson says. “Ukraine has made it clear that it has no plans to extend the transit deal with Gazprom, which expires at the end of December.”
It amounts to a complex picture.
Although investors may benefit from riding the wave of commodities, there are also storms ahead for some parts of the sector.
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